So you are ready to take the affiliate world by storm. The first big hurdle is to decide what you are going to pay your affiliates. Affiliates who refer sales to you get a commission once a sale (or a different conversion action) is completed. Payments can be either (a) a flat amount (in whatever currency you operate) or (b) a percentage of the total sale (exclusive of taxes and shipping). So, how do you determine what your affiliate program commission rate should be?
Affiliate commissions can vary greatly, so what is going to work for you? The most important thing to keep in mind is: will your commission rate structure be sustainable for you in the long-term?
Here are a few tips to help you finalize your affiliate program commission rate structure:
The first thing that you want to do is to perform an affiliate program competitive analysis to research and find out what your direct competitors are offering. This is important as affiliates will compare you against others in your industry and may opt to promote someone else if their payouts are higher. You do want your competitive payouts to stand out.
Finding what others pay is pretty easy. One way is to go directly to your competitors’ websites and look for an affiliate program landing page there. If they do have one on their site, their base commission payments should be listed. If you cannot find it on their website, try the second way: log into whichever affiliate network they use and search for their program as an affiliate. By doing this, you will be able to find out all of the information that you need for that competitor.
You can also reach out to potential partners for feedback. They can often give you some valuable insight into what works.
How Much Can You Afford to Pay?
Once you have completed your research and know what is standard (or expected by affiliates) in your space, you need to figure out what you can afford. You want to be able to reward your affiliates but yet still make money. You will need to figure out your profit margin.
Factor in all your fees:
- Returns (this can vary greatly by category)
- Processing fees
- Technology fees (be they charged by an affiliate network or another platform)
- Affiliate manager’s pay
- Tools into which you may need to invest
Include all the costs of doing business – and what you are left with is the maximum rate you can afford to pay.
An additional note that must be made at this phase is: do keep in mind the LTV or the life-time value of your customer here. In certain scenarios (e.g.: subscription-oriented affiliate programs) it makes sense paying significantly higher commissions on the customer’s initial payment to the company when the latter knows that they will make much more (from the same customer) on future payments. More about it later in this text.
Once you know the maximum you can pay, you can easily add levels/tiers of payment. I would recommend starting with a base commission structure and then add levels based on performance.
There are several reasons why this is a great approach:
- You are rewarding top producers.
- Affiliates have a motivation to promote you more if they can achieve higher earnings based on hitting higher sales levels.
- This gives you room to increase commissions down the road.
Structure commission so that you can factor in incentives. You may want to give an activation bonus or a first sale bonus. Also take into consideration that you may want to offer additional payments/commission over the selling periods that are key to your business: be it Mother’s Day, Back-to-School season, Halloween, Black Friday, Cyber Monday, or anything else.
If you automatically set your affiliate program commission rate to your maximum, then you eliminate these opportunities.
If you have various categories, you may want to assign different commissions for each as some have more margin (electronics will typically be slim, jewelry typically has much more margin to play with). Affiliates are rewarded higher in certain categories to make up for slimmer commissions in others.
Lifetime Value of a Customer
Once you acquire a customer through an affiliate, you can then market directly to that customer going forward. It’s important to figure out the lifetime value of your customer as that can also help you decide what commission to pay. With this information you can decide if your acquisition costs are correct or you may decide to be more aggressive with payouts to get those customers in the door.
Customer Lifetime Value or CLV can get very complicated and there are various ways and formulas to calculate it. In it’s simplest form, it’s basically the overall value ($$) a business will obtain from that customer.
(Average Order Value) x (Frequency of Purchase) x (Average Retention Time)
Average Order Value (Total revenue in a year divided by number of orders)
Number of Sales/Frequency of Purchase (Number of orders in a year divided by number of unique customers)
Average Retention Time – (Average time that a typical customer continues to purchase from your company)
Let’s use a subscription box as an example:
A customer pays $30 every month for two years.
$30 every month for two years
$30 x 12 x 2 years = $720 in revenue ($360 per year).
So the lifetime value of the customer is $720.
To recap, there are several factors to consider when calculating commissions.
- Competitor Analysis
- What can you afford to pay
- Tiered Commission Rates
- Category-Based Commission Rates
- Lifetime Value of the Customer
Some companies can’t afford a lucrative affiliate program commission rate. In these instances, there are other things you can do to help compensate your partners:
- Offer Free Product – Who doesn’t love a free product? Send samples to affiliates for them to review or do a giveaway with their customers.
- Longer Cookie Life – Set a longer cookie life so that they can make more commission.
- Exclusives – Set up exclusive offers for affiliates so that their customers get offers that are only available through their site.
Good luck with your affiliate program. Please reach out with questions or comments!